Although not overly unexpected, S&P delivered another downgrade of Spain. Leaving the fine A club and joining the B club, this only shows how badly run the world’s 12th largest economy actually is. The Trader still believes majority of the analyst community still underestimate the bad loans, the state of bank’s balance sheets and the mentality of dealing with economic reality in Spain, from politicians, companies, down to the average person. The boom has ended, and the hang over is just starting. Despite all this, the top news in today’s version of El Pais, is regarding king Juan Carlos and the status of his hip after the big game safari in Botswana.
Tic tac tic tac as PIIGS yields spike further.
While majority of European asset managers still enjoyed their Friday drinks, S&P were busy downgrading many of the European countries. Among the downgraded countries are France, Austria and Italy. Italy now has the same credit rating as Ireland, Kazakhstan, Colombia and some other “less” developed countries. Portugal on the other hand is ow at junk status. From S&P;
“Today’s rating actions are primarily driven by our assessment that the policy initiatives that have been taken by European policymakers in recent weeks may be insufficient to fully address ongoing systemic stresses in the eurozone,”
S&P said the euro zone faced stresses, including tightening credit conditions, rising risk premiums for a growing number of sovereigns, simultaneous deleveraging by governments and households, and weakening economic growth prospects.
It also cited political obstacles to a solution to the crisis due to “an open and prolonged dispute among European policymakers over the proper approach to address challenges.”
Austerity and budget discipline alone were not sufficient to fight the debt crisis and risked becoming self-defeating, the ratings agency said.
Hardly surprising the German Finance Minister Wolfgang Schaeuble played down the news, saying: “In the past months, we’ve come to agree that the ratings agencies’ judgments should not be overvalued.” (Full article here).
The president of the European Council said Friday that a new intergovernmental treaty meant to save the single currency will include the 17 eurozone states plus six other European Union countries – but not all 27 EU members, http://ftalphaville.ft.com/thecut/2011/12/09/789181/eurozone-leaders-agree-236-accord/
China’s annual inflation fell in November to 4.2 per cent, the lowest level in more than a year, reports Reuters, fuelling expectations of further monetary policy easing. The rate has dropped rapidly since hitting a three-year high of 6.5 per cent in July. http://ftalphaville.ft.com/thecut/2011/12/09/789171/chinese-inflation-plunged-in-november/
Distressed debt investors are circling a number of European companies that have run into trouble as the continent’s mounting economic woes put pressure on smaller businesses that are often highly leveraged, http://ftalphaville.ft.com/thecut/2011/12/09/789161/distressed-debt-investors-eye-europe/
While the Equities market continue the HFT Domination, where now the latest is RumorAlgo HFT, the Credit Markets imply a much worse outlook of the Economy. Credit Markets actually do measure the Economy, while Equities Market more resemble a trip to Disneyland. Despite the many wishes out of European politicians, where we get mixed signals on a real time basis, Credit Markets are suggesting trouble ahead. Credit Markets are in a free fall mood. What Markets to trust, is up to the individual investor. We know our preference. Some Credit Markets Charts Update below, courtesy Macro Story.
5 Yr Swaps
Eurodollar Deposits. Out of Europe we hear they don’t need USD funding, but the charts suggest another story.
With S&P downgrading Italy, the MIB in positive territory, somebody is starting to price in Berlusconi’s resignation. But before we get the limit ups hitting the wires let’s reconsider some of the problems if other countries start loosing their credit ratings.
The EFSF (supposed to save the Eurozone) is currently top rated, but that could change quickly, if realists at S&P start downgrading other countries within the Eurozone group. If that starts happening, the EFSF will loose it’s credibility in it’s current form, and will need some adjustments. Then the savior of Europe won’t be as strong as people perceive it to be.
1) The EFSF’s credit rating is downgraded, but the facility continues to operate as before, with higher funding costs (we estimate around 100bps, which corresponds to the gap between yields on French and Belgian debt). We think this is the most likely option.We note that after a French downgrade none of the three biggest sovereign borrowers globally would have a AAA-rating (Japan, US and France) – i.e. many other sovereign borrowers are funding themselves without problems in spite of the absence of a AAA-rating.
2) The ECB buys more peripheral European debt. The ECB makes up for the reduced lending capacity of the EFSF by increasing its purchases of peripheral European sovereign debt in the secondary market (having bought an estimated €80bn so far). This would amount to a form of soft QE (as its would lead to a deterioration of the quality of the ECB’s balance sheet) – or even hard QE (if the purchases are not sterilized, thus leading to an increase in the size of the ECB balance sheet). We note that this scenario could occur in combination with scenario 4 above. The only problem is that this would require the ECB to give up another one of its principles (as they would have to concede that their buying is not just “temporary”, i.e. only in place as long as the EFSF is not fully operational).